Adam Smith's Lost Legacy

GavinK9 AT gmail DOT com

Tuesday, August 29, 2006

Last Words Until Friday (je suis desole!)

In a couple of hours I set off for Edinburgh after five months in southwest France (broken by a couple of trips back to the UK for work purposes). The journey will take me three days at a leisurely pace by road, carrying, apart from personal effects and, of course, wine (entirely for domestic consumption), most of my ‘Smith’ library.

The five months have been spent working on my book on Adam Smith for Pearson Macmillan’s Great Thinkers in Economics series (2007) – I am about three quarters through now, looking at the final home straight. I am moderately pleased with my progress and have very much enjoyed my in-depth re-examination at what he wrote and intended (and blogging here).

The other highlight of my stay was our daughter’s wedding in July in our small rural commune, officiated by the Maire on behalf of the Republic of France, and attended by 140 guests, most from Scotland. This interrupted, of course, ‘Smith’, but was extremely enjoyable, as well as memorable.

All this means that until Friday, I do not expect to be able to post on the Lost Legacy Blog. So my apologies all round. No doubt the perpetrators of offences against the legacy of Adam Smith, mainly of the Chicago fraternity, will commit heinous errors and mountainous amounts of misinformation in my absence (most from genuine misdirection by their faculty when students; a few with intent). But the counterblast will be suspended only temporarily, I hope, and all being well I shall survey the damage they have done in my absence and respond accordingly.

Monday, August 28, 2006

A Critic Replies: 'Monastries were not Property'!

I posted yesterday’s Blog entry on Stumbling and Mumbling too, and Emmanuel Goldstein replied, first quoting the following paragraph and then blasting, succinctly:

“We know this because, in all cases in the history of humankind, over several millennia, no other system of organisation without property was selected by human societies to arrange for the production and distribution of produce.”“Rubbish. Counterexamples: medieval monasticism, early christian communities, etc.”

CommentEmmanuel Goldstein misses the point about the nature of property surely. Its characteristic is that somebody or some institution owns it to the exclusion of all others. That was its historical and necessary role in the development of society from ‘Rude’ to its successors: shepherding, agriculture and commerce (and now 'capitalsim').

But why rewrite on this fundamental point about the intrinsic nature of property when another contributor, ‘Chris Y’ responded so brilliantly, and succinctly, and asks Emmanuel:

“In what universe did mediaeval monasteries not own property. The monks as individuals may not have, but that's completely beside the point. There's a strand of opinion which holds that the Carthusians were catalytic in transforming primitive accumulation into systematic capitalism.”You can read the entire discussion, including the original contribution on 'Reading Marx' at:

Sunday, August 27, 2006

Smith and the Labour Theory of Value

Chris Dillow’s usually lively Blog (Oxford U and the Investors Chronicle), Stumbling and Mumbling, joins a ‘debate’ started by Brad De Long today on reading Karl Marx. He titles his piece as ‘Reading Marx (and Smith)’.

He writes:

“fretting about the distinction between use-value and exchange value did not start with Marx. Take this:

word value, it is to be observed, has two different meanings, and sometimes expresses the utility of some particular object, and sometimes the power of purchasing other goods which the possession of that object conveys. The one may be called "value in use"; the other, "value in exchange." The things which have the greatest value in use have frequently little or no value in exchange; and, on the contrary, those which have the greatest value in exchange have frequently little or no value in use.

It's Adam Smith (book 1 ch 4 of Wealth of Nations).And this raises a point that really irritates me. Why is it that so many people think Marx was an idiot for subscribing to the labour theory of value, whilst Smith was a genius even though he subscribed to an even naiver version of that theory?But then I know the answer, don't I? Smith's in the right tribe, and Marx is in the wrong one. The fact that both men had great insights, and flaws, is irrelevant. Because what they actually wrote isn't the point, is it?”

CommentI see his point but cannot agree with his conclusion. For a start, Smith was not the first to draw the use-exchange value distinction. It goes back two millennia, as a glance at the notes to the Glasgow Edition of Wealth of Nations would show. The diamonds –water ‘paradox is mentioned by Plato, it was covered by Pufendorf and before him Grotius, and John Law, Harris, Mandeville (1724) and Cantillon (1734) also wrote about it.

On the wider question of the labour theory of value and Smith’s alleged ‘naïve version of the theory’, careful reading of his chapters on value show he did not subscribe to such a theory for society once people moved from a ‘Rude’ society to agriculture and beyond. I discuss this in detail in my forthcoming work on Adam Smith (Palgrave Macmillan, 2007). That Ricardo and Marx tried to take it further had nothing to do with Smith’s work on the subject.

I cannot agree that ‘what they actually wrote isn’t the point, is it?” It is very much the point. If ideas are attributed to someone, we are entitled to challenge them for what they wrote.

In Rude Society (Smith’s first age of hunters – roughly corresponding to what in Smith’s time was described as ‘savage’, or North American ‘Indians’) the product belonged to the labourer, unambiguously. With agriculture a necessary component of that mode of production is that land becomes property, it being difficult to farm when anybody or their flocks and herds could wander in and eat their fill. Inescapably, property changed the mode of production (shepherding had changed it too to whomsoever owned them).

This was the change that Smith worked on to show how the revenue from the sale of produce was divided among the landlord’s rent (a licence to use his land for farming), the labourer’s wage (for his subsistence) and the undertaker’s profit from providing the seed and implements. Now whether, from this distance looking back you condemn the arrangement as ‘theft’ or whatever, there is no doubt that without private or public property in land (in both cases the ‘owners’ were no the labourers), protected by law, there would have been no development of agriculture, and from that the development of commerce. We know this because, in all cases in the history of humankind, over several millennia, no other system of organisation without property was selected by human societies to arrange for the production and distribution of produce.

But once Smith went down this road, he abandoned a labour theory of value.

Saturday, August 26, 2006

In my Blog posting for Thursday 17 August I discussed my reactions to something Eric Beinhocker writes on page 121 of his Origins of Wealth (Harvard). He reports a recent book by Gintis, H., Bowles, S., Boyd, R., and Fehr, E., 2005. Moral Sentiments and Material Interests, MIT Press, Cambridge, and he wrote:

“In a survey of recent behavioural research, Herbert Gintis, of the University of Massachusetts and the Santa Fe Institute, and a group of colleagues note that Adam Smith portrayed humankind as a selfish, materialistic creature in his Wealth of Nations. Gintis and company comment that many people forget that Smith wrote another book, The Theory of Moral Sentiments, in which Smith presented a more nuanced view of human nature, portraying it as capable of both selfishness and generosity.”

The Gintis, et al, book arrived this morning from Amazon and I reproduce what they actually wrote, which differs somewhat from how Beinhocker reported it:

“Adam Smith’s Wealth of Nations advocates market competition as the key to prosperity. Among its virtues, he pointed out, is that competition works its wonders even if buyers and sellers are entirely self-interested, and indeed sometimes works better if they are: ‘It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner,’ wote Smith, ‘but from their regard for their own interest’. Smith is accordingly often portrayed as a proponent of Homo economicus – that selfish, materialistic creature that has traditionally inhabited the economic textbooks. This view overlooks Smith’s second – and equally important- contribution, The Theory of Moral Sentiments – and equally important – contribution.

‘How selfish soever man may be supposed,’ Smith writes in The Theory of Moral Sentiments. ‘there are evidently some principles in his nature, which interest him in the fortunes of others, and render their happiness necessary to him, though he derives nothing from it, except the pleasure of seeing it.’ His book is a through scruitny of human behaviour with the goal of establishing that ‘sympathy’ is a central emotion motivating our behaviour towards others” (p 3).

Compare the two pieces. There are very different. Smith did not 'portray' 'humankind as a selfish, materialistic creature'; textbooks today portray him as such! There is a big difference. I suspected as much, which is why I declined to comment on Professor Gintis’s alleged remarks as reported by Beinhocker until I had read his book. Nor did Gintis et al say that many people 'forget' that Smith wrote Moral Sentiments; they said proponents of the false 'selfish, materialistic' view of Smith 'overlook' his second book. Having made their minds up firmly that Smith advocates 'the selfish' vision of humandkind, they have no need to read even Wealth of Nations. If Beinhocker was familair with Wealth of Nations (he quotes a secondary source on Smith's ideas, Backhouse's, The Penguin History of Economics, more than he does Wealth of Nations itself) he would have picked up on these errors.Now that the Gintis book has arrived and I read the above opening paragraphs, I am completely relaxed that Gintis and his co-editors understand Smith’s stance more accurately that Beinhocker understands, or at least reports, theirs.

Indeed, Gintis, Bowles, Boyd and Fehr make this very clear in their statement in the thrid paragraph on the same page quoted above, which Beinhocker asserts he had reported:

“The ideas presented in this book (namely, and incidentally that ‘co-operation stems not from stereotypical selfish agent acting out of disguised self-interest but from the presence of ‘strong reciprocators’ in a social group’) are part of a continuous line of intellectual inheritance from Adam Smith and his friend and mentor David Hume, through Thomas Malthus, Charles Darwin, and Emile Durkheim, and more recently biologists William Hamilton and Robert Trivers. But Smith’s legacy also led in another direction, through David Ricardo, Francis Edgeworth and Leon Walras, to contemporary neoclassical economics, that recognises only selfish behaviour” (p 3).

This seems to be the Beinhocker’s problem. He has picked up on complex adaptive systems, but has not quite yet shaken off the Chicago version of Adam Smith and its total inappropriate immersion in neoclassical economics, as taught in Chicago and almost all other US campuses. Chicago Smith through the lens of abstract equilibrium economics as hyjacked by Edgworth, Walras, et al, bears no resemblance to Kirkcaldy Smith, whose approach was based on the historical, evolutionary approach represented in his Wealth of Nations, Moral Sentiments, Origins of Language, History of Astronomy and Rhetoric.When I have read Gintis, et al, I may report on anything I note that is relevant to Smith’s Legacy. Meanwhile, I shall finish reading Beinhocker and, hopefully, he steers clear of Smith (and John Nash). Everything else he writes is excellent quality, and readable, well documented and neatly explained.

Nash Equilibrium is Not a Theory of Bargaining

Eric Beinhocker’sOrigins of Wealth continues to be my ‘in-between-writing’ reading and it is full of fascinating insights into complex adaptive system thinking, which he believes, and I agree, promises to be a richer paradigm for research than the equilibrium research paradigm that has dominated economics for the last few generations and is almost lost in abstraction, increasingly divorced from reality. Hence, I continue to recommend that you read his book.

However, as with Beinhocker’s account of Adam Smith’s philosophy and political economy, he continues to demonstrate gaps in his understanding of other areas of expertise in subjects with which I am familiar. The most recent is in his account of John Nash’s solution to the ‘Bargaining Problem’ (Econometrica, 1950) (Origins of Wealth, pp 267-8).

Beinhocker says that this problem ‘stumped economists for generations’, which it did, within the confines of neo-classical equilibrium. Unlike, the determination of prices in a competitive market, the price in bargaining situations (such as trading between two nations, monopoly versus monopsony, and negotiations between employers and trade unions), were regarded as indeterminate, or at best a fuzzy grey area – bargained outcomes fell in a range of possible prices according to the bargaining skills of the buyer and seller.

Nash did not resolve the bargaining problem, brilliant as his 1950 paper was and remains. He engineered the outcome of bargaining– not the process of bargaining – into neo-classical equilibrium. It is pure homo economicus (Beinhocker does not appear to have noticed this at all). He has bought right into the notion that Nash demonstrated the pay-offs from co-operation – yes, but only by Nash assuming they were not bargaining at all! He writes:

‘Nash’s elegant solution was to say how two or more bargainers split up the gains from exchange depends on how much each values the benefits of the deal, and what the parties’ alternatives are. Each looks for his or her best deal assuming everyone else is looking for the best deal too, and the trade is made at the point at which no one has any incentive to change position, given the actions of the other. … Both walk away better off that they would have been had they not traded at all, thus capturing the on-zero sum gains of co-operation.’ (pp 267-8)

Now, Adam Smith stated the bargaining solution in 1776 and his work on this problem lay ignored by economists until the 1970s. Edgeworth stated a Nash solution in Mathematical Psychics: an Essay on the Application of Mathematics to the Moral Sciences, (London 1881) in the exchange between two bargainers at the frontier of their preference curves in what became known as his ‘box diagram’; neither can move to improve his position without making the other worse off (also expressed as a Pareto Optimum).

Smith stated the conditional proposition (Wealth of Nations, Book 1, chapter ii): ‘give me this what I want and you shall have that which you want’, which is the meaning of all bargain propositions.

Nash, however, assumed: Highly rational bargainers, who can accurately compare each other’s desires; they have equal bargaining skills (by assuming them away); who have full knowledge of each other’s tastes and preferences (preventing bluffing and ploys) and they desire to maximise their gains – the difference between what they ‘give up’ compared to what they ‘get’ in exchange.

In short, the same unrealistic assumptions of neo-classical economics, which Beinhocker exposes as a main weakness of neo-classical modelling in the early chapters of Origins of Wealth, and which complexity theory is seeking to replace in line with modern developments in maths.

Smithian bargainers were advised in 1776 to trade that which is cheap for you to give in order to get back that which you value more. Nash’s example of two bargainers ‘Bill’ and ‘Jack’ exchanging toys shows how when they do this, under his assumptions that remove the process of bargaining, they will maximise the product of their net gains in utility. But he does not model how they do this, or, more realistically, how they would approach the Nash/Pareto/Edgeworth equilibrium, in practice. Like the mathematics of General Equilibrium, it is evidence of an ‘elegant solution’ (even a ‘beautiful mind’), but did not resolve the bargaining problem, because between the opportunity to improve one’s utility and enjoying the Nash ‘solution’ there is the awkward process by which bargainers in the real world attempt to reach it.

In the theory of perfect competition bargainers have no choice but to accept the competitive price, or do without. In bargaining, they have choices. The ‘rational’ choice is to accept what somebody offers for something you value less than what you get in exchange by giving up what they want. This means not worrying about ‘leaving money on the table’, or which of you ‘gains most’, and all the other silly notions that unthinking people bring to the bargaining process in practice (including the Negotiation paradigm taught at Harvard).

If somebody offers you something that you value, and you value more than what you give up in return (Smith’s conditional proposition) then your best inclination is to accept the deal. If you think you can get back more for what you give – thus, perhaps, walking into the ‘greedy’ not the ‘needy’ ‘trap’ – but by mediating your interests and taking account of, and ‘addressing their interests’, not just your own, the problem of ‘selfishness’ is overcome. As people are the best judge of their interests, offers made that make you better off, also by reasonable inference, make them better off too in their minds You both move towards, but maybe not onto, a Nash/Pareto/Edgeworth frontier.

The Hollywood scriptwriter in ‘Beautiful Mind’ (the film, which was also a misleading account of John Nash’s life) has Nash saying he has ‘proven’ Smith wrong. That depends on which Adam Smith we are talking about: Chicago Smith or Kirkcaldy Smith? Kirkcaldy Smith was interested in bargaining as a process and how the solutions reached by practical people made them better off – it enabled them to become dependent, safely, on others and to improve their living standards (which means increasing their dependence).

Just as it did not require perfect liberty for progress towards opulence to take place, it does not need everybody bargaining soley to maximise the product of their net gains. If they do, fine; in its absence, also fine. In evolution, very small gains also count!

Thursday, August 24, 2006

No Quick Fix from Partially Free Markets

If you want markets to work ,you have to clear away obstructions to them working freely. This has costs, some unpaletable politically. If you cannot meet those costs (and few countries have been prepared to do so) then it takes longer to achieve the gains from marketing working freely. That is the road almost all countries have taken. Smith noted that if perfect liberty was a precondition for progress towards opulence, no countries would ever have progressed at all (he was never a fanatic). It follows that if you choose, as most do, not to interfere with obstacles to free markets, for whatever reasons you do so (and in many cases you have no choice but to leave the obstacles operating), you cannot expect speedy results over a generation, and certainly not within the life of a government, including totalitarian self-appointed for life governments of the kind presently occupying seats at the United Nations.If you expect speedy results from partially free markets, you will be disappointed. This does not justify blaming markets for not working when you prefer not to let them work. Sumati Mehta, writing in the Financial Express, Bombay, in an article entitled “Reorienting India’s Development Strategy” observes the following:“Prior to 1980, India’s development strategy was characterised by a heavy emphasis on the public sector, investment and import licensing and significant protection for labour. However, from the early 1980s, there were pro-business reforms which accelerated in the early 1990s. These included, inter alia, the abolition of industrial licensing, narrowing the scope of public sector monopolies, sweeping trade liberalisation and reduction of non-tariff trade barriers. The present decade has seen a continuation of the same strategy, based on the belief that the free market approach would enable Adam Smith’s invisible hand to operate and the benefits of higher growth to automatically trickle down. This has not happened to the extent expected. How should the strategy, therefore, be modified?”CommentHer first part on events post-1980 (thirty years after political Independence; which left an as yet unresolved legacy of national animosity towards and from Pakistan), with its fairly timid reforms in the industrial business sector, later speeded up after 1990, has not yet gone far enough. The danger is that India changes tack again and fails to complete the market conditions it has been trying to repair since its quasi-Soviet style socialism proved incapable of achieving its goals.

This is suggested in her semi-mocking reference to the failure to ‘enable Adam Smith’s invisible hand’ to operate. Not surprising that such a notion failed: there never was any invisible hand to operate. The myth that there was an invisible hand has become the prime alibi for failing to tackle the conditions that are the real obstacles to economic progress in countries like India and elsewhere. Sumati Mehta does not mention them, and I presume few others do in India.

I have mentioned the national animosity between India and Pakistan, to which we could add the growing sense of commercial rivalry between India and China, which could tip over into national animosity and jealousy too, both of which are conditions inhibiting markets from working. She does mention India’s ‘labour laws need reform because inflexibility in labour markets has led to use of capital-intensive methods’ (the latter a permanent possibility where other countries demonstrate the superiority of capital-intensive goods – no, do not prohibit their import into India!). But labour reforms are definitely needed, as are reforms away from interference in markets for political, religious, and superstitious reasons.

As bad, she seems to place a great reliance on ‘strategies’ being introduced. No wonder she is disappointed with those they have tried already. She writes:

“The shift has taken place directly away from agriculture, and in favour of services, without the intermediate transition to the industrial sector. This fact, would not in itself be a cause for concern if high growth rates had also been accompanied by adequate employment generation. Since this did not happen, there is reason to believe that by-passing growth in the industrial sector may not be the best option.”

CommentThis is a familiar concern to students of Wealth of Nations, in which Smith noted the failure of the reviving commerce in 16th to 18th century Europe (following its thousand-year interregnum after the Fall of Rome in 476) to follow the ‘natural’ progression from agriculture. Instead, manufacturing followed the ‘unnatural’ path of leaping over an incomplete improvement that should have thoroughly developed agriculture, much of it still barely emerged from a Feudal land structure, to the rapid development of manufacturing, allied to technology. In the 19th century this process led to industrialisation.

India, according to Sumati Mehta is doing something similar by leaping over manufacturing to services. She hints, menacingly, of a strategy (read legislation and compulsion) to prevent or reverse this process. Britain had a period of economic lunacy along the same lines leading to Labour’s ‘Selective Employment Tax’ in the 1960s, aimed at discouraging services in favour of manufacturing. It failed, spectacularly. Should India adopt a similar strategy (the London School of Economics has a lot to answer for!) it too will fail, at great expense for no gain.If you want employment gains, encourage by not interfering in, markets. They work without mystical invisible hands. Smith explained why. It’s only the epigones who misread, or didn’t read’, his books who get this wrong.

Wednesday, August 23, 2006

What Do they Teach in Long Island?

Papers, reports, book reviews and letters cross my desk each day, and occasionally I come across absolute gems, such as James Buchan’s, Adam Smith and the Pursuit of Perfect Liberty (Profile Books, 2005), near absolute gems, Eric Beinhocker’s, The Origin of Wealth (Harvard 2006). I also come across many duds, but few as bad as a very long article by Professor Mahfuz R. Chowdhury, who apparently teaches economics at C.W. Post Campus of Long Island University, USA, (“Economics Has and Will Shape the World”). I quote a small sample of what he writes in it:

“Economics has been defined in a number of different ways. All definitions however lead to its central theme that it is an art of accumulating material wealth. The main objective is how to achieve a comfortable life. As such, the idea of economics is nothing new to people. Although Adam Smith, who published “The Wealth of Nations” in 1776, is regarded as the father of modern economics, its subject matter is as old as the human race itself. It was not by any choice that people started to practice economics; their very survival practically forced them to engage in economic activities. The main difference between ancient and modern economics is that people have learned to practice economics in a more scientific and organized manner. The fundamental idea of economics is that economic resources are limited, but human wants are unlimited. So, to get the greatest fulfillment of their wants people need to utilize their limited resources in the most efficient and economic way. Also, people need to choose what satisfies them most since they cannot get everything they want.

This concept of economics was as true when people lived in caves as it is today. People have come a long way from the time of cave dwelling, and have made tremendous progress in raising their living standards. Unquestionably, people are now better fed, better clothed, and better informed. They can enjoy life more, and live longer. In other words, there has been tremendous economic progress over time. More importantly, along with the many technological innovations this progress is continuously changing for the better. But alas, while human society is making such achievements, not everybody in society is getting the opportunity to share the benefits equally. The opportunity gap among people is staggering - some live in great luxury, while others find it hard to even feed themselves properly.”

(Published in 'Peace Journalism')

CommentFor a tendentious analysis of society you have to read the rest of this article in ‘Peace Journalism’, but as an example of economic illiteracy you could not beat it.

Economic activity is not an ‘Art’ (whatever that means); it is a networked series of actions. It is not a ‘fundamental idea that economic resources are limited’ – resources are scarce at any one moment and their opportunity costs, in all the things people could do with what is available is limited by knowledge, technology, access, and time, but what is ‘limited’ is not some absolute quantity; it depends on the time period and, crucially on the extent of the division of labour. Neither are human wants ‘unlimited’ in the sense that every human throughout all history conceived of wanting everything, including that which they knew nothing about, and were deprived of what they wanted. The cave people, the author talks about, did not ‘want’ colour tv sets, etc., (the very poor in American, colour tvs are a 'necessity').

The author notes the extent of economic progress but then laments: “Alas, human society is making such achievements, not everybody in society is getting the opportunity to share the benefits equally.” Within that ‘Alas’, lies utter confusion (what is he teaching his class in Long Island University?). In which society, ever, have its members shared everything ‘equally’? The closest people got to ‘equality’ was in societies that shared the ‘abject relative poverty’ of the ‘gatherer-scavenger’ societies in the last million years of the Hominids and the early millennia of the human race; it got slightly better as they learned to cooperate in hunting.

Adam Smith, writing of the North American ‘Indians’ that were found when Europeans arrived near Long Island, drew attention to the fact that the living standards of the meanest common labourer in 18th century Scotland were much greater in material wealth than the ‘princes’ who led tribes of a ‘thousand’ people in America. Indeed, and this is significant, the Scottish common labourer enjoyed living standards closer to the ‘princes’ who ruled his life in 18th century Scotland than the North American Indian did to him. The cause of this wider disparity between the unequal societies of Europe and the unequal societies of the ‘Age of the Hunters’ was the division of labour. It had nothing to do with racism. John Locke opined the view that ‘in the beginning all the world was America’ (Two Treatises on Civil Government), including Western Europe, Asia, and Africa. Our predecessor were all 'savages' 30,000 plus years ago.

And today, Professor Mahfuz R. Chowdhury might care to note that in the country he lives in, the USA, the gap between the rich and poor in America is incomparably smaller than the gap between the rich and poor of India, China and Africa, for exactly the same reason: the vastly more complex market economies in the former compared to the latter.

The remedy, the only remedy, to poverty, relative and absolute, in the case of the developing countries (probably relative only now in the developed economies, except perhaps for recent immigrants) is the creation of wealth, which Smith defined as the annual produce of exchangeable value. No economic system ever has found another route. Capitalism, like democracy, is not the ‘best system’; it is the least worst of all the alternative economic systems that occupy and have ever occupied, the design space.

Tuesday, August 22, 2006

Religion and the Poverty of Politics

The politics of poverty is a regular subject around the world. Among the discussants are members of the religious denominations, who bring their beliefs, ordained by their version of the God they worship, to the subject. They are no more unified on the issues and the solutions than anybody else. In the United States we have the self-described ‘religious Christian Left and Right’. Every night on our tv screens we see the often murderous divisions between Sunni and Shia Moslems, and in Israel there are wide policy differences between Orthodox and Reform Jews. Perhaps Hindus and Buddists are different, but I doubt it.

Yesterday, I came across the following in an article published by ‘RS Red State’ ) Maclean, Virginia: “The Politics of Poverty” by Dignan, after the religious response of left and modertate Christians to poverty had been discussed:

“One thing that many proponents of capitalism often forget is the origins of capitalism. It is often forgotten that the father of modern capitalism, Adam Smith, was a moral philosopher who wrote almost as much regarding ethics as he did on economics. Smith conceived of free-market economics taking place in an environment filled with exhortations and expectations of morality.

While "The Wealth of Nations" is a much better known work today, Adam Smith's "The Theory of the Moral Sentiments" is what made his career. In this book, Smith argued that ethics didn't derive from law or rational thought, but that people were born naturally with a moral sense. It was this moral sense that acted as a restraint upon the baser impulses of man to exploit others in an economic system.

Unfortunately, many proponents of capitalism, especially libertarians, have forgotten these origins of the system. Too often capitalism is presented as simply the working out of people's self-interest. This ultra-individualistic approach is doomed to fail.”

CommentI cannot comment on the quality of the religious doctrines in the article, but the representation of Adam Smith’s views in this case are spectacularly wrong. If they represent the true views of Libertarians (which has its own ‘left’ and ‘right’ wings, even a ‘socialist/ anarchist’ tendency, within its, if I may say so, very broad ‘church’) then they too espouse incorrect views they attribute to Smith.

Smith was not the ‘father of modern capitalism’ – he knew nothing about modern capitalism which developed in the mid-19th-century in a unprecedented scale of capital accumulation, with no precedents in history. He analysed a developing form of commercial society that gradually re-appeared in Western Europe about a thousand years after the fall of Rome (476).

While I agree that Moral Sentiments is an important work by Smith (and not read widely today by those who quote him from Wealth of Nations), it is not true that he argued that “that people were born naturally with a moral sense.” That was a view of his teacher, Professor Francis Hutcheson (A System of Moral Philosophy, 1755, posthumous), and not one that Smith agreed with at all. Smith’s ‘Moral Sentiments’ is about how humans in society develop their moral sentiments from their contact with others, as they grow up as children and when they are adults from their transactions with others in society’s ‘mirror’ (another metaphor of Smioth’s, which fortunately did not become distorted like his other metaphor of an invisible hand) of which behaviours are approved or disapproved of by others, as mediated by their ‘impartial spectator’.

People are motivated by self-interest (but not greed, that was an idea of Mandeville's, Fable of the Bees, 1724), but they mediate their self-interest in transactions with others by lowering their demands or expectations of their wants and raising their offers to the level of what the other parties, with whom they transact, can go along with. This idea is in both Moral Sentiments and Wealth of Nations.

That the ‘ultra-individualistic approach is doomed to fail’ is an assertion with which I agree (for other philosophical reasons), but the main point is that such an idea had absolutely nothing to do neither with Smith’s philosophy nor economics. Humans have always lived in societies (a society of one is a lifetime limited life – reproduction requires a minimum of two) and as society grew economically it did so through the increasing dependence, not interdependence, of each person on others; today it is incomparably dependent, not individualistic, because of markets, which can only operate through co-operation (not necessarily love) and not violence, cheating, or rip-offs.

One last sentence at the end of the article caught my eye, and made me think about its implications:

"It does not require a majority to prevail, but rather an irate, tireless minority keen to set brush fires in people's minds"- Samuel Adams.

Oh, dear! Does Dignan really mean this to be encouraging?

Samuel Adams describes a phenomenon that could apply to Jesus and his 12 disciples, fine. But it could as easily apply to an ‘irate, tireless minority’ led by a Stalin, Mao or Hitler, all three of which exhibited an ‘irate’ and ‘tireless' energy as they mobilised their minorities to their violent seizure of power. Better to stick with requiring 'majorities to prevail.'

Monday, August 21, 2006

Tobin's Hyperbole About Smith's Invisible Hand

Mark Thoma on in his Blog (http://neweconomist.blogs.com/), reports (20 August) on ‘An Interview with James Tobin’, the distinguished professor, from the post-war generation of Keynesians (I read him first while an undergraduate).

I had reason to be reminded of Professor Tobin recently while writing on the perennial subject (for me, that is) of “Smith on an invisible hand”, a subsection of a chapter of my new book on Adam Smith (for Palgrave Macmillan, 2007). The extract refers to chapter II of Book IV of Wealth of Nations, which contains his sole reference to this mysterious force in human motivation, now, alas, transformed into a ‘theory’ of markets by people who should know better.

I was surprised at the time find Tobin, in common with Arrow and Hahn, lauding the metaphor in terms that I considered to be over-the-top, wildly wrong and embarrassing for three distinguished scholars. Hence, my comments in what follows are not flattering of my otherwise happy appreciation of my memories of Tobin, at least on this singular occasion:

“From the end of the 19th century until now, and increasingly from the mid-20th century, an alleged affinity between Adam Smith and a so-called ‘invisible hand’ has been near total in the public’s mind. This statement is heavily qualified as ‘alleged’ or ‘so-called’ because it needs to be treated so.

It may come as surprise to persons brought up, as it were, on Smith’s ‘theory of the invisible hand’, to learn that he had no such theory, that he used the metaphor only three times (in a million published words), and once in Wealth of Nations [1] (and not in reference to markets), and that he showed no inclination to treat it as anything more than an isolated metaphor including in his other two uses, once in his History of Astronomy, [2] in reference to pagan superstition, and once in Moral Sentiments, [3] in reference to feudal lords divvying up their accumulated produce among their retainers and serfs in roughly the same quantities as would be distributed if land had been divided equally.

Towards the end of the 20th century, three veritable giants among economists lauded Smith for his metaphor, describing it variously as: ‘The profoundest observation of Smith’; ‘surely the most important contribution [of] economic thought’; and ‘one of the great ideas of history and one of the most influential’.[4] How did Smith’s casual metaphor achieve such high status two centuries after him? No wonder that almost all of the profession followed suit in according a metaphor the unbelievably high status it now enjoys, as a ‘profound’, ‘great’ and ‘influential’ idea - a clear case of the ‘Emperor having no clothes’?

There are two parts to his metaphor’s promotion from ‘an invisible hand’ to ‘the invisible hand’ and to its iconic status in modern treatments of Adam Smith by academics and media professionals, the latter group counting less in Smith’s day to ours. The first part deals with what the metaphor meant to Smith, and the second part deals with what his posterity did with it. Both parts are difficult to be certain about because we can only deduce the meaning of the metaphor for Smith from his rare use of it, and we can only comment on what we think users today claim he meant.

Remarkably, discussion – it was never a debate – is universally muted. The metaphor of the invisible hand was not remarked upon at all for nearly a hundred years after Smith’s death in 1790, after which early assumptions about it slipped into the mainstream almost unnoticed.[5] An exception to the almost, but not quite, unanimous [6] silence was a paper, ‘Thy Bloody and Invisible Hand’, delivered by Emma Rothschild at the prestigious American Economics Association in 1974, later published in her book, Economics Sentiments.[7] I have drawn from her work in this chapter, without implicating her with aspects of my treatment.

From where did Smith take the metaphor? We don’t know, but he was almost spoilt for choice because versions of the metaphor had been around for a long time and Smith was most likely familiar with all of them. Emma Rothschild reports literary references to ‘invisible’ and ‘hands’, and ‘invisible hands’, in Homer (Illiad), Ovid (Metamorphoses), Lactantius (De divinio praemio), Augustine (City of God), Shakespeare, (Macbeth), and, in correspondence, Voltaire and Condorcet. [8] To which James Buchan adds Daniel Defoe’s ‘resourceful whore’, in his Moll Flanders (1722). [9]Cutting to the chase, I shall explore what ‘an invisible hand’ supposedly referred. To begin, you should note that in both Moral Sentiments and Wealth of Nations Smith refers to an invisible hand, with the indefinite article ‘an’, not with the definite article ‘the’, though in almost all cases, except direct quotes from Smith, modern authors refer to it as ‘the invisible hand’ and it is to ‘the invisible hand’ than they attribute its status as ‘one of the great ideas of history and one of the most influential’ (see the above references to Arrow, Hahn and Tobin).

The difference between ‘an invisible hand’ and ‘the invisible hand’ is highly significant, though for readers unfamiliar with the original references in Smith, the ‘sleight of hand’, to coin a phrase, is, well, ‘invisible’. And that should answer the question raised about what Smith meant by using the metaphor! A metaphor is such because it is indefinite. It has no real counterpart in reality.

Feudal lords, Smith wrote, ‘are led by an invisible hand’ [10] and undertakers, anxious not to be separated from their capital, are ‘led by an invisible hand’;[11] note that neither of them are led by ‘the invisible hand’, for the simple reason that there isn’t one, and Smith never intended that readers should conclude any differently.

Smith, in the case of the heavenly Roman god, Jupiter, referred to ‘the invisible hand’, because in pagan beliefs supposedly he used it to protect the earthly Roman emperor with thunderbolts, as represented on Roman coins.[12] That is the difference between using a metaphor and using a definite noun, and Smith certainly, and beyond doubt, knew of the difference, as we can read in his lectures on rhetoric, which include his discussion on metaphors that make particular reference, incidentally, to how Shakespeare used them.[13]

It is clear then that Smith used ‘an invisible hand’ purely as a metaphor, possibly casually; too casually in view of the hyperbolic adulation made about it two hundred years later by its elevation into a ‘theory’. That such distinguished scientists, including winners of the Bank of Sweden Prize in Economics in Memory of Alfred Nobel, Magi-like, travelled so far from their normal habitat of the abstract desert of general equilibrium to salute an isolated metaphor, as ‘one of the great ideas of history and one of the most influential’,[14] can only be the result of their complete unawareness of (or their completely forgetting) Smith’s historical, social-evolutionary approach.”

Saturday, August 19, 2006

A Repas Among the Vineyards of South-West France, While Thinking of Adam Smith

Apologies for a gap in posting, but this area in rural France has been afflicted by severe (by Scottish standards) electrical storms and for many hours the Internet has been cut off. I checked with my neighbours today at a party for a couple's 56th wedding anniversary, and their son and grandchildren confirmed that for they too the Internet has been tres difficile, until around mid-day today (which was the time we were due at the anniversary dejeuner: I sneaked in the piece that I wrote yesterday and posted as my wife was leaving the front door for our neighbour's house).

Instead, I made excellent progress with Adam Smith, covering the subject of his alleged views on 'an' (NB: not 'the') invisible hand, with which regular readers will be familiar.

All being well, I should resume posting on Monday.

PS: You have no idea how many corrections were necessary to this short piece due to the influence of multiple glasses of local wine and two cognacs....

Capitalism and Smithian Markets

Adam Smith had a concept of markets, not of ‘capitalism’, a wholly new phenomenon of the 19th century and not one that Smith, nor any of his contemporaries, with the possible, loose, exception of Turgot, who used the word (in French), ‘capitaliste’, in 1766, though not the word ‘capitalism’, first used in a novel by Thackeray in 1854, and later, of course by Marx.

This might explain the programmatic problem raised by Mehreen Shakoor, who writes a ‘Call to Youth’ in “Pakistan Times” (18 August):

“Adam Smith’s concept of capitalism and Karl Marx’s concept of communism should now be discarded as no longer relevant to our present problems. Communism fails to provide diversity of choice and encouragement to individual enterprise; it is too demanding in its elimination of basic human rights.Likewise, if capitalism has a contribution to make it will have to be in a changed form. Capitalism must develop still further, and with greater rapidity, a rational solution to the employer / employee partnership. It must direct its productivity and energy to eliminate — and not ignore — poverty; to add to the quality of life rather than to eliminate life itself. It must use technology so that future generations are not destined to devote a greater part of their waking hours within office walls doing work of little mental or spiritual satisfaction.”

Comment19th century ‘capitalism’ changed several times and took various forms by the 21st century. No doubt it will continue to do so. ‘Capitalism’ is different in Germany, France than its Anglo-American forms, by, among other aspects in the degree of state intervention (’state capitalism’?) in these variants.

It is a long time since workers were rioting violently in the streets of Britain and the USA, though the do quite regularly in France, a capitalism noted for its ‘pro’ labour regulations compared to the USA and Britain and its provisions for job security if they get a job (counter-balanced, of course, by the higher unlikelihood of unemployed workers finding jobs ‘with greater rapidity’ than in the USA and Britain, where markets are relatively freer than in France, Germany, Spain, Italy, Belgium and The Netherlands).

Poverty is eliminated by the creation of wealth and markets are better at achieving this outcome than state capitalism. It is the lack of markets, under all forms of government, that creates poverty and it is in the continuance of state rather than markets solutions that allows poverty to continue.

Mehreen Shakoor’s desire for ‘capitalism’ “to add to the quality of life rather than to eliminate life itself” is absolutely strange when set in the context that life expectancy is highest in capitalist countries (of all variants) than in non-capitalist countries, and partly developed countries like Pakistan.

Child mortality is higher in non-capitalist countries and partly developed countries. Hence, I do not understand what the charge of eliminating ‘life itself’ as a failure of capitalism and markets means.

As for capitalism using “technology so that future generations are not destined to devote a greater part of their waking hours within office walls doing work of little mental or spiritual satisfaction”, this too is a strange ambition given that capitalist countries provide more work opportunities, better education for work and leisure, and more challenging work, than socialist, undeveloped and state managed countries compared to capitalism.

Thursday, August 17, 2006

If You Must Ascribe Ideas to Smith, First Read his Books

I had a mild attack of coughing and shivers last night which took me to bed earlier than normal, with Eric Beinhocker’s ‘Origins of Wealth’ (Harvard), which I recommend you read.

This gave me an opportunity to go back a hundred or so pages to re-read a paragraph on page 121. It follows an erudite couple of pages in the failings of the notion of homo economicus, that phoney construct of the Chicago mind built into the assumptions of the neo-classical paradigm, which, I am glad to say, Beinhocker considers to be erroneous, as any Adam Smithian (of the Kirkcaldy original variety, not the Chicago false version) would agree.

“In a survey of recent behavioural research, Herbert Gintis, of the University of Massachusetts and the Santa Fe Institute, and a group of colleagues note that Adam Smith portrayed humankind as a selfish, materialistic creature in his Wealth of Nations. [quoting from Gintis, H., Bowles, S., Boyd, R., and Fehr, E., 2005. Moral Sentiments and Material Interests, MIT Press, Cambridge] Gintis and company comment that many people forget that Smith wrote another book, The Theory of Moral Sentiments, in which Smith presented a more nuanced view of human nature, portraying it as capable of both selfishness and generosity.” [p 121]

Until I read the Gintis book (it’s on order from Amazon and has not arrived yet) I cannot be sure whether this paragraph is based on what Gintis, et al, wrote or whether it is Beinhocker’s interpretation. Which ever is the case, and whoever is responsible, it is completely wrong, as regular readers wil know.

Smith never endorsed or ‘portrayed humankind as a selfish, materialistic creature in his Wealth of Nations’ or in any other of his works, Moral Sentiments, Lectures in Jurisprudence, History of Astronomy, or his Correspondence. So it is mystery where Professor Gintis, et al, get this idea from, or what prompts them to feel we need reminding of what he wrote in Moral Sentiments.

It seems to me that people writing such errors must have ‘forgot’ to read Wealth of Nations and Moral Sentiments. They have adopted, without quibble, an interpretation of Adam Smith on self-interest that does no correspond to what he wrote in Wealth of Nations. Until I read the Moral Sentiments and Material Interests by Gintis, et al, I cannot be sure, but I bet a dollar that they quote somewhere from Smith’s well-worn statement about the ‘Butcher, the Brewer, and the Baker’ supplying your dinner from their ‘self interest’ and not their ‘benevolence’, [WN I.ii.2: p 26-7] as part of their ‘proof’. If so, I know they have not read his statements about that transaction very closely.

Or they may be relying on George Stigler’s assertion that ‘The Wealth of Nations is a stupendous palace erected upon the granite of self-interest’ [Stigler, G. 1975. p 237, in Skinner, A. K. & Wilson, T. eds. Essays on Adam Smith, Oxford University Press, Oxford] Actually, it is on such statements that Chicago erected its version of Adam Smith upon the granite of misunderstanding Smith’s philosophy.

Briefly, look a little closer at what Smith says. The unsuitability of relying on another person’s benevolence, or them relying on yours, is that it is not a permanent way to get your dinner each day. Resources are scarce; demands are many, and all people rely on numerous thousands for their daily sustenance. Does this mean that there is a constant war of self-interests? Not at all. That is not the transaction we know as bargaining.

Smith goes no to say: ‘We address ourselves, not to their humanity but to their self-love, and never talk of them of our necessities but of their advantages.’ Butchers, brewers and bakers ear the wherewithal to acquire what they want from the many others who co-operate to supply them with their needs by transacting with all the people who seek off them their dinners. By agreeing to a ‘mercenary exchange of good offices according to an agreed valuation’ (Moral Sentiments II.ii.3.2: p 86) each party to the transaction gets what they want: ‘Give me that which I want, and you shall have this which you want’. (WN I.ii.2: p 26)

Two selfish egoists would never conclude a voluntary agreement; they would fight to the end demanding everything, or a lot, and offering nothing, or a little, in return. That is not a bargaining process that can be completed. Each party has to modify its demands by addressing the self-interest of the other. Smith’s says ‘love is not sufficient’ (Lectures on Jurisprudence [LJ(A) vi.45: p 347] He describes a process similar to negotiation in Moral Sentiments (TMS I.i.4.7-4.10: pp 22-3) in which individuals ‘lower their passions’ to achieve the support of the impartial spectator. In impartial competition, in bargaining with strangers, the same lowering of high demands and the raising of low offers occurs. Smith calls it in Wealth of Nations the ‘propensity to truck, barter and exchange’; it is the only method by which ‘everyman’ procures what he wants from others, which necessarily means he must give to others what they want.

We serve our self-interest best by serving the self-interests of others. This is a long, long way from people in commercial exchange being ‘selfish and material’.

I suggest Gintis, et al, or perhaps Eric Beinhocker, take a closer look at their sources. Meanwhile, all strength to the 'campaign' to replace the neo-classical paradigm.[I cover a more detailed critique of Chicago notions about Smith on self-interest in Adam Smith's Lost Legacy, Palgrave, 2005]

Wednesday, August 16, 2006

Experiment, Don't Just Argue About Schooling

There is the usual row about school education in New York, which I have occasionally commented upon in respect of the combatants quoting Adam Smith in support of their differing views. Here, in the land of Adam Smith, we have similar controversies. Labour politicians and the teaching unions hate diversity; they prefer uniformity and, having political muscle, they exercise it when and where they can. Fortunately, we have privately funded education alongside publicly funded education, and nobody is the worse off for it.

I know little about New York, except that it is a very large city and a rich one too. With diverse per capita income levels and diverse attainment and aspirations levels it can afford to experiment rather than to argue endlessly about ideologies without testing them. I would recommend the empirical test to all problems of social-economic differences. Experiment, find out what works, apply the better ones measured by outcomes (which are not confined to exam grades only), while rejecting the clear worst ones.

The New York Sun carried an article by Edward Glaeser, ‘Schools for Cities’, yesterday, 15 August. One paragraph caught my eye:

“Since Adam Smith, economists have thought that competition delivers better value to consumers than monopoly. The enthusiasm that big city parents show for more schooling options makes it clear that education is not exempt from this rule. It is a tribute to the political strength of the education establishment that they have been so effective in muddying the waters.”

Exactly! What is it with the political managers of New York that they cannot , dare not, try the empirical test of allowing diverse means of educating school children? The education is contract is between parents and school providers. If a minority of parents what to try a different version of schooling, let them. True, this makes children actors in an experiment, but given the outcomes of the present system – which I have heard nobody defend (and I read the New York Times everyday online, not the New York Sun, unless it is picked up, as above, referring to Adam Smith, so I can hardly be accused of bias against publicly funded schooling) – other than as a principle to be imposed whatever the results, which by many accounts are pretty awful in enough cases to justify the risks of experimenting while the wheat is sorted from the chaff in terms of best practice.

Competition is usually a benefit; monopoly is not, which is why even if the education system was totally private and competitive I would still favour experiments in publicly funded schools in those areas of the city where parents were so minded. So, incidentally would Adam Smith; in his day, the problem was an absence of access to schooling for the majority of children and the almost total exclusion of young girls (the latter a situation comforting to today’s Taliban, but to nobody else), and he advocated for Britain what was long practice in Scotland, publicly funded 'little scools', part funded by parents.[Edward Glaeser is the glimp professor of economics at Harvard, director of the Taubman Center for State and Local Government, and a senior fellow at the Manhattan Institute. Read his article at: URL: http://www.nysun.com/article/37951]

Tuesday, August 15, 2006

Smith was not a 'Classical' economist

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Gavin Kennedy

In today’s The Monitor (Kampala, Uganda) Moses Byarunhanga, a Special Presidential Assistant on Political Affairs, takes Beti Olive Kamya to task for criticising the government for ‘allocating little resources to the agriculture sector, which employs about 80 per cent of the country’s population.Beti Kamya writes: "By allocating a mere 3.7% of the national budget to the biggest sector of the economy the government is steadily denying 80% of Ugandans options of employment, practically conscripting them into peasant farming".It is not my purpose to engage in a debate between two members of another country’s political system – I confine myself to such debates only in the country I vote in, i.e., Scotland – but I would like to pick up the essence of the debate because Moses Byarunhanga makes reference to theories in economics that bear on the role of agriculture in development and includes a comment about the ‘classical economists’:

“There are various economic theories. During the 16th-18th centuries, the mercantilistsvalued gold and silver as an index of national power. In the second half of the 18th century, the physiocrats believed that wealth originated in agriculture; through trade wealth is distributed from farmers to other groups.The classical economists; Adam Smith, Thomas Robert Malthus, David Ricardo and John Stuart Mills promoted private property and free markets. They believed that the self-interest of individuals would promote the general well being of society.Other economic theories included the neo-classical economists led by Alfred Marshal (1870s), Keynesian theory which held that when aggregate demand is low, sales and jobs suffer and when it is high all is well and prosperous. All the above theories have attempted to explainthe role of the state in the economy and what constitutes wealth. I call upon politicians as policy makers, journalists and the elite to study in detail all the above theories.”

CommentI would take Adam Smith out of the group of ‘Classical economists’, a collective term by Karl Marx, and not really appropriate – he was engaged in brand differentiation. With each passing generation, Smith’s social-evolutionary historical approach was diluted, and finally ditched by the neo-classical theorists led by Walras and Jevons (who misdirected economics from the 1870s until recently, pace Eric Beinhocker’s book, The Origins of Wealth’, into the abstract mathematical world of general equilibrium, using the ‘wrong’ maths for economics).

Smith’s evolutionary model allowed for quite wide variations in politico-economic processes well short of his ideals of Perfect Liberty. Indeed, the ‘natural’ sequence of agricultural development, then manufacturing, then ‘distant sale’ (within the county and for export) had nowhere in Europe been followed, Smith noted. In Wealth of Nations he explained why: the fall of the Roman empire had led to the destruction of agriculture for export, the desertion of the cities with a collapse in manufacturing, mainly instruments for farming and luxuries, and regimes of warlord barbarism, which evolved into feudalism. When commerce gradually revived from the 14th to the 17th century in Europe, and agriculture had settled into post-feudal forms of land tenancy, knowledge had also moved on and manufacturing received a boosts, some promoted by governments (Elizabethan, for example), and some by world oceanic explorations (shipping technologies and navigation).

Wealth of Nations is a report of Smith’s inquiries into those factors, social, political and historic that inhibited economic growth. In it Smith asserts that if a society has to follow a pure path of ‘perfect liberty’, and the ‘natural’ sequence of agriculture to distant sale of manufactures, then no country in Europe would have succeeded in progressing to opulence. Hence, his critique of what he called ‘mercantile’ political economy with its multitude of interferences in primitive accumulation of capital and the division of labour, within and between the economy’s sectors, and its infrastructure.

Now a modern country, such as Uganda, facing problems of economic growth, is on the right lines if it recognises, as Moses Byarunhanga asserts that it is, that the government’s role is to remove obstacles to development that arise from its particular circumstances and to replace these obstacles with infra-structure that supports development (roads, bridges, irrigation, education and health, which are in the other sectors that support agriculture). These, combined with small private capitals in the hands of people who seek to better their condition, are the way forward. The essential foundation is justice and clean government.

Smith had a lot to say about these policies. I am less sure that the policies and theories enunciated by Malthus, Ricardo, Mill, Walras, Jevons, Marshall, and the neo-classical paradigm, offer much for a country like Uganda. Scotland in the mid-18th century was closer to Uganda today than the economic theories of an industrialised world of the 19th and 20th centuries.

Read Beinhocker's Book, Now!

As I hoped and expected, I am enjoying reading Eric Beinhocker's new book on the 'Origins of Wealth’ (Harvard) despite my reservations posted last week on Lost legacy in regard to his statements about Adam Smith. While I cannot devote as much time to reading Eric’s book as I would like, because of my major commitment to completing my new book on Adam Smith (I am on Chapter 8), I am managing half an hour or so on most late nights. The other evening I came across a reference to the ahistorical prejudice in neoclassical economics, as taught and practised almost everywhere today. I completely agree with Eric’s assessment and reproduce below a couple of paragraphs from Chapter Four of my ms on Adam Smith, in which I am discussing Smith’s Lectures on Jurisprudence and Wealth of Nations in respect of his historical explanation for the development of the Division of Labour and where I have commented immediately before on why his approach has greater significance for the economics than generally appreciated (I have heard economists respond: ‘So what?’ when I have raised this topic with them).From chapter 4: Adam Smith by Gavin Kennedy:“[Smith’s] interest in and focus on the division of labour derives from his philosophical method of looking backwards, not forwards, as set out in his Ages of Mankind. The student notes of his Lectures lack the polished prose of Wealth of Nations but much the same ideas are presented, in a slightly different order, than how they appeared in his book twenty-three years later. This approach is distinctive in Smith’s political economy and is in total contrast to modern neo-classical economics, in which there is not the slightest hint of interest in the origins of human economies. The elements of these are taken as datum and for granted. Economic agents are assumed to have factor endowments and they interact according to set rules, and in their consequences they conform to mathematical functions acting at infinite velocity and with total certainty between states of equilibrium, from which universal andeternally valid predictions are derived. Real people, real societies, real influences (political, religious, environmental, historical and psychological – I hesitate to mention sociological), and real time are all absent by assumption, or just not even mentioned. The neoclassical paradigm is in total contrast to Smith’s backward looking, explanation and not prediction philosophy, and, inadequate in terms of the deeper modern knowledge of the subjects he covered as it undoubtedly it may be, his approach at least had the virtue that using it he produced in Wealth of Nations an analysis of the obstacles to economic growth in 18th-century Britain, with detailed practical policies to improve its performance within the limitations of the political system that existed, and not one assumed away as in a neoclassical growth models (Harrod-Domar, Solow), believed wrongly by their creators to be correct and relevant for all times and places, when in fact it was neither correct nor relevant for any timeand place outside of the abstract model. At least Newton’s mathematical laws of gravity, complete with their assumptions, were valid not just within the confines of his mathematical functions, but also outside his window in his orchard.”You absolutely must read Eric Beinhocker's book, The Origins of Wealth: evolution, complexity, and the radical remaking of economics, 2006, Harvard Business School Press, to see why I was pleased that we agree on this point! It has something very important to say and every economist should take note - the neoclassical paradigm is on its way out.

Monday, August 14, 2006

The 'Wretched Spirit' of Inaccurate Misquotation

Terence Kealey (Times on line, 14 August) makes a case, in ‘Science Notebook’, against the use of patents and while I have little to say about patents, I was struck by his misuse of a quotation from the Adam Smith ‘rent-a-quote’ industry, which as usual misapplies Smith’s words, while gaining some ‘recognition’ points among readers for using his name, in support of a modern argument. He writes:

“Patents are a menace. Industrialists lobby for them, but only because industrialists love monopolies. Adam Smith wrote that “men of the same trade seldom meet together, even for the purposes of amusement, but the conversation turns into a conspiracy against the public” and patents are such a conspiracy.”

Comment:A conspiracy involves more than one person. An application for a patent involves one person or a legal person in the case of a company. It is not a conspiracy. Merchants do not meet together to decide if one among them can apply for a patent, and it is not uncommon for rival firms on noting a patent has been applied for that gives its owner decided advantages, to work hard at trying to get round it as soon as they can. Again this is not the behaviour of conspirators.

I note also that Kealey’s quote is not quite accurate. He must be a subscriber to the cheaper end of the ‘rent-a-quote’ industry that sells sloppy versions of Adam Smith quotes. He should buy a copy of Wealth of Nations for himself, and read it, even check the sloppy versions sent to him, or use the services of a five-star quotation firm (Science columns are expected to be accurate):

“People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the publick, or in some contrivance to raise prices.’ (WN I.x.c.27: p 145)

The context in Wealth of Nations is about town guildsmen, small traders, shopkeepers, artisans and merchants, operating in the ‘wretched spirit of monopoly’ by meeting together to conspire. It is not about intellectual property in the 21st century, a quite different case of monopoly.

Trade is Good for All

A brilliant piece by Tim Worstall in TCS Daily (edited by James K Glassman) caught my attention today. It’s great to come across people who write well and know what they are talking about. Tim reviews Deepal Lal’s new book, Reviving the Invisible Hand: The Case for Classical Liberalism in the Twenty-First Century (I’m not keen on the title; it aims at hitting the ‘recognition factor’ – better to forget the invisible hand and just create conditions for markets to work without mysticism).

However, Lal’s book is on target, according to Tim’s review:

“Lal effectively points out that just about every goal held dear by those who call themselves radicals and progressives is best reached by exactly the opposite policy prescriptions that they put forward. Indeed, we can go further and point out that the best methods of reaching those goals are in fact the truly liberal ones, those laid out all those decades ago by Adam Smith, David Hume and David Ricardo.”

That requires that classic liberals read and understand Smith, Hume and Ricardo (the last being a particularly onerous undertaking!). Tim makes a valid point about globalisation not levelling everything down to any country’s particular way of life:

“The opposition to globalization seems to be driven by two things: one contemptible, the other merely mistaken. The contemptible one is the reaction of the various pressure groups in our own countries, bewailing the way in which "the market" will crush all cultures. This seems, in Lal's view, to be driven by nothing more than hatred of people or Contemptus Mundi. The mistaken one is where there is a conflation between resisting the market itself (with the associated capitalism) and resisting American or European culture. It is possible to accept and benefit from one without importing the other -- something that has not yet quite occurred to all? Organizing an economy along free market lines does not mean that Islamic states will have to allow topless sunbathing, alcohol or to abandon their cultural practices: Lal rightly points out that Japan is very much a capitalist society, but is still distinctively Japanese. All can become rich through trade without that having to mean that all become the same.”

Now we can’t say the same thing about the protectionism. Everybody remains poor. They insist on trade only with partners who enforce the same working hours, pay rates and social legislation (the real meaning of opposing trade with countries on lower standards than their own). Nobody to trade until every country is the same! Not because they really concern themselves with a country developing out of its poverty, but to slow down the import of their products.Markets are completely compatible with diversity; their essence is the co-existence of the niche.

Friday, August 11, 2006

All Quiet on the Adam Smith Front

All is quiet today on the Adam Smith front, judging by the absence – near total – of ‘Alerts’ sent to me since yesterday afternoon. Those few that did arrive were variously for sportsmen of the same name whose exploits were recorded in the press somewhere around the world, and, of course, for Congressman Adam Smith, whose voting record on free trade seems to be well short of his namesake’s preferences.

However, I have not been entirely idle, in fact not idle at all. I have been compiling an examination in Strategic Negotiation, plus solutions, for my former day job, a task I agreed to continue until end of 2007.

Besides that, I continue to work on my book, Adam Smith, for Palgrave’s 28-volume "Great Thinkers in Economics" series, due to commence publication in 2007. Currently, I am focussing on Smith’s critique of mercantile policies (Book IV, with snippets in Book V too). Smith, incidentally, never used the word ‘mercantilism’ much used today and attached to his name.

Scholars noticed Book IV’s difference in tone from the rest of Wealth of Nations and they advanced various ideas and explanations for why he did this. I am working through an explanation too. It includes a fascinating eight chapters – er, Smith’s critique, not my explanation! - which, by two pages, inclusive of editorial footnotes are the longest in Wealth of Nations, accounting for a quarter of the 2 volumes. Yet it receives the least amount of comment and analysis by modern scholars (or from most 19th century scholars too).

Amazingly, Book IV contains the infamous misattribution in respect of the invisible hand (p 456) and covers his comments on the ‘recent disturbances’ in the American colonies. Yet, apart from the quotation, wrenched out of context and turned into a ‘theory of markets’ by our Chicago friends, little is known or said about the rest of the eight chapters, the last one written in 1782-4 for the revised 3rd edition, when he was regularly consulted on the colonies in London by government ministers (they ignored his advice – politely; as ever when war drums beat and defeat looms, it is no time to expect politicians to compromise).Well, that is my present task on the Adam Smith front, which with the last essay plus solutions for the MSc examination, will be my work for the next few days (apart for attending a neighbour’s party tonight, plus some food and a few glasses of orange juice, me being ‘on the wagon’ at present).

Thursday, August 10, 2006

Beware the Cries of Woe, but Tread Carefully

Ray Perryman, in mywesttexas.com, 10 August, writes on a detailed problem in telecommunications billing in Texas. Apparently, a line item on phone bills, the Universal Service Fund (USR), is causing controversy among some customers who do not want to pay it. Cross-subsidisation of high-cost services is possible when a phone company has a monopoly (they don’t bother telling you), but when a service becomes competitive the subsidies are revealed.

I think Ray makes a good case both for the reasons for the cross-subsidisation being introduced over 60 years ago when telecoms were introduced in Texas – for largely social reasons of integration of sparsely populated areas such are common in Texas – and for changing the system now but only after much careful thought and reflection, and not rushing in to remove the subsidy ‘at a stroke’, as is usually recommended in these situations (especially by the more extreme wing of Libertarians).

Ray writes:“As I have frequently said in print and testimony to various legislative, regulatory and congressional bodies, markets are extremely powerful and achieve incredible things in a seemingly invisible and effortless manner, but they are not perfect. Markets are, in essence, a mechanism to allocate resources. If left unfettered, they do so with great efficiency. They do not, however, honor social policies and priorities beyond efficiency, and they do not capture social benefits or costs that extend beyond private transactions. These facts have long been recognized. Even in "The Wealth of Nations," Adam Smith's seminal work in 1766 which first fully exposited the structure of a market economy, he noted these phenomena and suggested numerous situations in which intervention was necessary and justified.”

After explaining the original purpose of the now visible subsidy, he develops a theme of being careful before abolishing it while the consequences are not clearly understood or anticipated:

“The consequences could be substantial, and the existing approach appears to be generally achieving the desired outcome in a reasonable and effective manner.Adequate and affordable phone service is essential to economic progress. However, many areas of the state are too sparsely populated or otherwise too high cost to be desirable business for some providers. Every fee, tax, subsidy and other market variation is worthy of examination now and then. But when it comes to eliminating or materially changing the Universal Service Fund, we had better be very careful about what we ask for.”

CommentFirst, let me state my pleasure that Ray correctly introduces Adam Smith into the debate on the appropriate policy to follow and his reservations about markets in some situations – he was never an advocate of laissez faire, and certainly not an advocate of totally fee markets in all cases.

In his oft quoted chapter on free trade – the one where he uses the metaphor about the invisible hand (p 456) – he also discusses the practicalities of going from a regulated or monopolised market to free trade, and here, he exhibits the same caution suggested by Ray about the pace of any proposed changeover from monopoly and restricted trade to competitive and free trade.

Smith writes:

“The case in which it may sometimes be a matter of deliberation, how far, or in what manner it is proper to restore the free importation of foreign goods, after it has been interrupted, is, when particular manufactures, by means of high duties or prohibitions upon all foreign goods which can come into competition them, have been so far extended as to employ a great multitude of hands. Humanity may in this case require that the freedom of trade should be restored only by slow gradations, and with a great deal of reserve and circumspection. Were those high duties and prohibitions taken away all at once, cheaper foreign goods of the same kind might be poured so fast into the home market, as to deprive all at once many thousands of our people of their ordinary employment and means of subsistence. The disorder which this would occasion might no doubt be considerable.” [WN IV.ii.40: p 468-9]

(Smith goes on to discuss why the anticipated disorder might ‘in all probability’ be ‘much less than commonly imagined”.)

However, the general point remains, take due care of what you do with people’s lives. They are not ‘wooden chess pieces’ on a chessboard moved at the will of the players. Think through about the human effects of a situation changing abruptly by the careless will of politicians or irate consumers demanding action through their lawyers, and aspiring politicians and ‘men of destiny’ broadcastng their 'remedies'.

Sure, be wary of the cries of woe, too (that’s what the innocent and the unscrupulous would cry, wouldn’t they?). But take a close look at the change and it consequences, weigh the change up as you would anything seriously affecting yourself, and then make your mind up and either modify the change or cancel it. That at least was what Adam Smith advised.

Wednesday, August 09, 2006

Missing the Point!

At the end of an account of proposals for tracking all vehicles on the roads of Britain and taxing the owners accordingly for the miles they drive, the routes they take and the time of day or night, Tony Hallet (editor ‘Road tax rage’, Silicon.com) makes his point:

“But what might happen? If you are someone who will benefit greatly - maybe you travel infrequently, on rural roads, at off-peak hours - there will be someone else who has no choice but to hit busy rush hour roads, many times per week. The latter group will be the ones who protest loudly.

The fudge will then be to keep a tax on fuel, maybe even annual road taxes. That will all be costly, confusing - and risk not being 'revenue neutral'.

Wasn't one of Adam Smith's tenets about taxation that it's simple? On that count, levies on a litre of fuel are the simplest solution. Problem is, we already protest about the price of fuel. And another tenet of his was that taxation is also fair.

Ah, who'd be an economist? Or a road planner.”

CommentTony misses the point. The roads are congested and getting more so. Everybody is charged the same prices for petrol and diesel per litre and everybody pays the annual road tax of about £150, irrespective of when you drive and what part you pay in the congestion those driving with you at the same time or the same roads.

Now I know nothing of the technicalities of these latest proposals because I am in France and missed the story, but Tony’s points are not relevant to the fairness angle I think he pursues.Who benefits? Well if more people adjust their driving behaviours to avoid the higher charges for using certain roads at certain times, then those who cannot adjust their journey times will gain because the other drivers who would be with them will not be. The drivers of less congested roads benefit (less traffic). So do those driving at other times (they pay less).

Those contributing to congestion pay the economic cost of their usage – a perfectly fair Smithian principle right out of Book V of Wealth of Nations. Those driving at other times on other roads pay something – its not free. That is also a perfectly fair Smithian principle.

Moreover, the discriminatory prices for when and where you drive gives you an incentive to search for ways to adjust your driving to other times (car sharing, etc.?). That, believe it or not is exactly what Smithian markets are good at – incentivising people to adjust their behaviour for efficiency.Ah! who’d be an editor? Or a non-economist?

Why Blame Adam Smith?

From 'Hernando Today', Florida (8 August):

"The supply and demand hoax" by Dr Maglio“The price of gas steadily increases although it rarely goes down. Straight-faced politicians tell us it is simply a result of the "Law of Supply and Demand". In 2006 this reasoning is a pathetic attempt at placating us while anyone connected with the oil industry rakes in the dollars.In an ideal world, according to Adam Smith, as the supply of a commodity goes up, the price comes down to attract more buyers and as the supply goes down the price goes up. As individuals realize the great potential for making a profit they are motivated to increase the supply. This greater supply causes the price to go down. These are the forces of supply and demand.”

CommentDr Maglio sets up supply and demand as a ‘law’ from Adam Smith (many authors, e.g,, the Greeks, Mandeville, preceded Smith with the essence of the law – he developed his own ideas along the same lines as Cantillon) and then asserts that said law is being ‘manipulated’, that is it is not being allowed to operate, that it is a 'hoax'.

“Our economy has progressively moved away from allowing these free market forces to operate. We are living in a regulated world. The modern oil market is anything but free. It is not being shaped by competitive forces. It is being manipulated.The following are blatant examples of interference with the laws of supply and demand. Our government has been hijacked by special interests ranging from speculators, to environmentalists, oil producing nations and politicians. This has created an oil policy that does not serve the general public but does serve the special interests and the politicians who are trying to be re-elected. These self-serving influences are anything but free in shaping the market."

CommentIf the supply and demand – the quantity supplied to a market (not stored) is less than the quantity demanded in that market, then prices will rise; if people believe the quantity demanded is stable and credible reports circulate that the quantity to be supplied may be interrupted, then people setting future contracts will raise their prices and these will filter through on deliveries, people with stocks will re-price their stocks; price will rise.

These are not violations of the ‘law of supply and demand; they are precise evidence of it working. There are lags in such a process too; it is not instantaneous. Building or modernising refineries (expensive investments) takes time; exploring and turning wells into operational fields takes time; giving the ‘tax breaks’ that Dr Maglio suggests among his ‘solutions’ rewards the current gainers for what he also considers to be their complicity in the current supply shortage in the market.

Governments ‘rake’ in the tax dollars too and may be less inclined to take action when there are large government spending deficits. Hence, why Adam Smith is pilloried for what is perfectly explainable within the law of supply and demand makes little sense to me – unless mentioning Adam Smith in any article on economics is almost a cheap stab at ‘recognition’ for authors to gain attention for their views.

Tuesday, August 08, 2006

Chose Your Sources Carefully!

I am reading Eric Beinhocker’s ‘The Origin of Wealth’ (Harvard), prompted by a couple of reviews and following my recent reading of Hollander’s ‘Hidden Order (Addison-Wesley). It looks like I should enjoy it.

However, I was disappointed to see his account of Adam Smith’s contributions, which seems to rely, not directly on Wealth of Nations, but on R. E. Backhouse, The Penguin History of Economics, Penguin, London, 2002! He also sources Ian Ross, author of the definitive biography, ‘The Life of Adam Smith’ (Oxford University Press, 1995) but seems not to have read it closely.

I appreciate that authors who draw on formidable bibliographical material as Beinhocker does (his book gives a panoramic coverage indeed) must rely on secondary sources to a degree, but I there are safer (in a scholarly sense) accounts of Adam Smith than Backhouse, on the evidence of what has been transported to Beinhocker’s; if he didn’t have access to Smith’s original, or he did, but didn’t have time, his choice of Backhouse as a source casts suspicions over the near 500 pages that follow, though I hope not.

Examples:

‘Smith was educated at Oxford’ (p 24)

He was resident at Oxford (1740-6), where the ‘publick professors have for these many years given up altogether even the pretence of teaching’ (Wealth of Nations, p 761), and he more or less ‘educated’ himself, so lax was tuition at Balliol College in those days (2 lectures a week, prayers twice daily) compared to the intense tuition he received at Glasgow (1737-40) under Francis Hutcheson, et al (tuition everyday from 7.30 am to 1 pm; essay writing in the afternoon for later classes). He continued his self-study (an early distance learning student?) in Kirkcaldy (1746-8) preparing for his Edinburgh lectures (1748-51).

‘While at Glasgow he came to the attention of a wealthy young Scottish duke who took him on as his well-paid private tutor.’ (p 25)

He came to the attention of Charles Townshend, stepfather of the Duke of Buccleugh (also spelt Buccleuch) in 1759. His stepson was still at Eton and when he left in 1763 Townshend, not the Duke, arranged for Smith to become his tutor (the young Duke was still a minor) (Ross, 1995, p 151-2). Townshend went on to become Chancellor had helped provoke the American rebellion with his various taxes, including that on tea. The Duke was also the grandson of Smith’s patrons, the 2nd and 3rd Dukes of Argyll, and became a lifelong patron of Smith too (he secured the Commissioner of Customs position for Smith in 1778).

Beinhocker’s/Backhouse’s(?) account of wealth creation (p 25) is different from Smith’s, mainly because they present it the ‘wrong’ way round. Smith argued that humans had a propensity to ‘truck, barter and exchange’ and this propensity preceded the division of labour. Once surpluses of anything were produced (accidentally or intentionally) they were objects of exchange, one good for another good. Divisions of labour, first by trade, then within production, increased the amount of goods (wealth). Money in any form is not wealth; it is what produced goods can purchase of the necessities, conveniences and amusements (luxuries) of life that constitutes wealth; money is a means to exchange wealth, but not wealth itself.

‘The “invisible hand” led society to the happy result of efficient resource allocation was the mechanism of competitive markets.’ (p 26)

Not at all! Smith’s use of the metaphor of the invisible hand had nothing to do with markets, which are discussed in Book I, while the invisible hand is mentioned once, but not discussed (if you discuss a metaphor it is no longer a metaphor!), in Book IV (p 476). He used it while discussing the consequences of individual merchants preferring to keep their capital working within their sight and not risking their capital in distant trade. He discussed much the same motives of security of scarce capital in Book III on the habits of bankers. The metaphor of the ‘invisible hand’ (actually from Shakespeare’s Macbeth, 3.2, or Defoe’s Moll Flanders, 1722) has been turned into a ‘theory’ by careless attributions from economists at Chicago in their neo-classical theory of markets, which has absolutely nothing to do with Smith’s political economy.

‘Smith’s point can be re-phrased in modern terms by quoting the character Gordon Greko from the 1980s movie Wall Street, “greed is good” – a rather surprising conclusion from Smith the moral philosopher.’ (pp 26-7)

Smith’s point was the exact opposite! In Moral Sentiments he denounces such views that have more in common with Bernard Mandeville’s Fable of the Bees (1724), and he was a remorseless critic of the idea of the public benefits of individual greed. Such a view has nothing remotely to do with Smith’s moral philosophy or his political economy.

What is really surprising is that someone purporting to be presenting a radical departure for economics from the neo-classical paradigm comes out with such utter rubbish about Smith, based on secondary accounts, and adds the final mocking insult to Smith that he somehow sullied himself and his moral philosophy for views he never held. Similar sloppiness when critiquing the massed ranks of neo-classical mathematicians will bring down a firestorm of derision – they are a most unforgiving lot in my experience.

‘For the seventeenth-century Irish financier Richard Cantillon…(p 27)

Cantillon’s well-known work, Essai sur La Nature du Commerce en General, was written before 1734 and first published in 1766. Cantillon was born between 1680-90 and spent his adult years to his mysterious, early death in 1734, in the 18th century. He is generally referred to as an 18th century economist.

Well, I certainly hope that the other authorities who inform Beinhocker’s work are more reliable than those who informed his report of Smith’s ideas. My confidence is under strain but my interest in complexity applied to economics (sparked by Hollander’s book) is stronger than my reservations.

You should read Beinhocker’s book and judge for yourself:

The Origin of Wealth: evolution, complexity, and the radical remaking of economics, Eric D. Beinhocker, Harvard Business School Press, Boston, Mass. 2006